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Home / Education / Futures & Options Strategy Guide / Long Butterfly

Long Butterfly

Overview

Pattern evolution:
Long Butterfly

Learn 21 futures and options trading strategies in this complimentary,  easy-to-read guide. Download Now >>

When to use: One of the few positions which may be entered advantageously in a long-term options series. Enter when, with one month or more to go, cost of the spread is 10 percent or less of B – A (20 percent if a strike exists between A and B). This is a rule of thumb; check theoretical values.

Profit characteristics: Maximum profit occurs if a market is at B at expiration. That profit would be B – A – net cost of spread. This profit develops, almost totally, in the last month.

Loss characteristics: Maximum loss, in either direction, is cost of spread. A very conservative trade, break-evens are at A + cost of spread and at C – cost of spread.

Decay characteristics: Decay negligible until final month, during which distinctive pattern of butterfly forms. Maximum profit growth is at B. If you are away from (A-C) range entering the last month, you may wish to liquidate position.

CATEGORY: Precision
Long call A, short 2 calls B, long call C
Long put A, short 2 puts B, long put C

Example

Long Butterfly Example

Scenario:
The trader currently has a #17 Ratio Call Spread. He thinks this is still a good position. However, he is worried that the futures may increase dramatically on the upside, leaving him with a substantial loss. He adds a long call and converts the position into a long butterfly.

Specifics:
Underlying Futures Contract: December Lean Hogs
Futures Price Level: 52.50
Days to Futures Expiration: 74
Days to Option Expiration: 45
Option Implied Volatility: 21.5%
Option Position:

Long 1 Dec 52.00 Call – 1.825 ($547.50)
Short 2 Dec 54.00 Calls + 0.950 ($285.00) X2
Long 1 Dec 56.00 Call – 0.450 ($135.00)
– 0.375 ($112.50)

At Expiration:
Breakeven: Downside: 52.375 (52.00 strike + 0.375 debit). Upside: 55.625 (56.00 strike – 0.375 debit).
Loss Risk: Losses start above 55.625, or below 52.375, but limited to the debit paid. Maximum loss above 56.00 strike or below 52.00 strike.
Potential Gain: Gains peak at strike of written calls. Maximum profit of 1.625 ($487.50).

Things to Watch:
There is not much risk in this position. Volatility has little effect. Avoid follow-up strategies unless you are quite certain of a particular move. Nearly every follow-up to this strategy requires more than one trade—possibly incurring large transaction costs.

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Additional Futures & Options Strategies

  • How to Use This Guide
  • Long Futures
  • Long Synthetic Futures
  • Short Synthetic Futures
  • Long Risk Reversal
  • Short Risk Reversal
  • Long Call
  • Short Call
  • Long Put
  • Short Put
  • Bull Spread
  • Bear Spread
  • Short Butterfly
  • Long Iron Butterfly
  • Short Iron Butterfly
  • Long Straddle
  • Short Straddle
  • Long Strangle
  • Short Strangle
  • Ratio Call Spread
  • Ratio Put Spread
  • Ratio Call Backspread
  • Ratio Put Backspread
  • Box or Conversion

Contents Courtesy of CME Group.

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Risk Disclosure

THIS MATERIAL IS CONVEYED AS A SOLICITATION FOR ENTERING INTO A DERIVATIVES TRANSACTION.

THIS MATERIAL HAS BEEN PREPARED BY A DANIELS TRADING BROKER WHO PROVIDES RESEARCH MARKET COMMENTARY AND TRADE RECOMMENDATIONS AS PART OF HIS OR HER SOLICITATION FOR ACCOUNTS AND SOLICITATION FOR TRADES; HOWEVER, DANIELS TRADING DOES NOT MAINTAIN A RESEARCH DEPARTMENT AS DEFINED IN CFTC RULE 1.71. DANIELS TRADING, ITS PRINCIPALS, BROKERS AND EMPLOYEES MAY TRADE IN DERIVATIVES FOR THEIR OWN ACCOUNTS OR FOR THE ACCOUNTS OF OTHERS. DUE TO VARIOUS FACTORS (SUCH AS RISK TOLERANCE, MARGIN REQUIREMENTS, TRADING OBJECTIVES, SHORT TERM VS. LONG TERM STRATEGIES, TECHNICAL VS. FUNDAMENTAL MARKET ANALYSIS, AND OTHER FACTORS) SUCH TRADING MAY RESULT IN THE INITIATION OR LIQUIDATION OF POSITIONS THAT ARE DIFFERENT FROM OR CONTRARY TO THE OPINIONS AND RECOMMENDATIONS CONTAINED THEREIN.

PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE PERFORMANCE. THE RISK OF LOSS IN TRADING FUTURES CONTRACTS OR COMMODITY OPTIONS CAN BE SUBSTANTIAL, AND THEREFORE INVESTORS SHOULD UNDERSTAND THE RISKS INVOLVED IN TAKING LEVERAGED POSITIONS AND MUST ASSUME RESPONSIBILITY FOR THE RISKS ASSOCIATED WITH SUCH INVESTMENTS AND FOR THEIR RESULTS.

TRADE RECOMMENDATIONS AND PROFIT/LOSS CALCULATIONS MAY NOT INCLUDE COMMISSIONS AND FEES. PLEASE CONSULT YOUR BROKER FOR DETAILS BASED ON YOUR TRADING ARRANGEMENT AND COMMISSION SETUP.

YOU SHOULD CAREFULLY CONSIDER WHETHER SUCH TRADING IS SUITABLE FOR YOU IN LIGHT OF YOUR CIRCUMSTANCES AND FINANCIAL RESOURCES. YOU SHOULD READ THE "RISK DISCLOSURE" WEBPAGE ACCESSED AT WWW.DANIELSTRADING.COM AT THE BOTTOM OF THE HOMEPAGE. DANIELS TRADING IS NOT AFFILIATED WITH NOR DOES IT ENDORSE ANY TRADING SYSTEM, NEWSLETTER OR OTHER SIMILAR SERVICE. DANIELS TRADING DOES NOT GUARANTEE OR VERIFY ANY PERFORMANCE CLAIMS MADE BY SUCH SYSTEMS OR SERVICE.

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